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STEP UK Tax, Trusts and Estates Conference 2017

A talk to be given by Lucy Obrey

The Residential Nil Rate Band

These notes are intended to do no more than refresh the memories of those attending of

the salient points made. Whilst every care has been taken in preparing the notes to

ensure their accuracy, they cannot be exhaustive and are no substitute for detailed

examination of the relevant statues, cases and other materials when advising clients on

particular matters. No responsibility can be accepted by the speaker for any loss

occasioned to any person acting or refraining from action in reliance on anything contained

in these notes. No part of the notes may be reproduced in any form without the prior

permission of the speaker.

Lucy Obrey, TEP | Partner | Private Client

Email: lucy.obrey@higgsandsons.co.uk | DDI: 01384 327224 | Mobile: 07912 121808 | Fax: 01384 327290

@LucyObrey | Web: www.higgsandsons.co.uk

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The Residential Nil Rate Band

Introduction and background

The provisions of Finance (No.2) Act 2015 provide the detail to enshrine the

longstanding pledge of the Conservative Government to increase the inheritance tax

nil rate band to £1 million. Unfortunately for practitioners rather than a simple

increase to the existing nil rate band a brand new band has been introduced. The

new nil rate band seems to have acquired a number of different names. For the

purpose of this note it will be referred to as the residence nil rate band (‘RNRB’).

Practitioners will need to consider the existence of 3 nil rate bands when advising

clients as follows:-

The general nil rate band (NRB)

The transferable nil rate band (TNRB)

The residence nil rate band (RNRB)

HMRC guidance

HMRC published guidance on the RNRB on 8 November 2016 which can be found

at https://www.gov.uk/guidance/inheritance-tax-residence-nil-rate-band. This is

supplemented by a number of case studies which can be found at

https://www.gov.uk/government/case-studies/inheritance-tax-residence-nil-rate-

band-case-studies. The guidance, although aimed at the general public, is useful

to practitioners, particularly the case studies.

HMRC’s Trust and Estates December 2016 newsletter indicated that they are aiming

to publish more detailed technical guidance on the RNRB and TRNRB in the IHT

manual in the New Year. The updated IHT 400 suite of forms to accommodate the

RNRB is not yet available.

The general concept

The RNRB is intended to provide an additional relief against inheritance tax for

deaths on or after 6 April 2017 when a residence is bequeathed on death to a lineal

descendant or descendants.

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Amount of relief

The amount of relief available is referred to as the Residential Enhancement. There

are set amounts which prescribe the available RNRB in the applicable tax year as

follows:-1

Tax year Residential enhancement

Before

2017-18

£100,000 (deemed residential enhancement where RNRB of pre-

deceased spouse carried forward)

2017-18 £100,000

2018-19 £125,000

2019-20 £150,000

2020-21 £175,000

After

2020-21

Adjusted in line with the consumer prices index (CPI) (unless the

Treasury sets a different amount before 6 April in the tax year

concerned)

As per the table the amount of £100,000 is set as the carry forward amount for

deaths pre 6 April 2017. In relation to deaths pre 6 April 2017 it is simply not

possible to have used the RNRB so it will be available to carry forwards. It does not

matter how long ago the individual died, what was in their estate in terms of assets

and who they bequeathed their estate to either under a will or via the intestacy rules.

The only caveat is that the taper provisions need to be applied.

Other practical points in relation to the carry forward allowance:-

As per the existing transferable NRB the transferable RNRB must be

specifically claimed.

The allowance can relate to more than one predeceased spouse. However

as per the transferable nil rate band rules it is not possible to carry forward

more than one additional 100% RNRB.

If the first to die held assets comprised within their estate worth more than £2

million the amount which can be transferred will be tapered (see below).

The emphasis is very much on married couples/civil partners. Unmarried

couples with children must either leave their own share of the house to the

children on their death (which can create problems of its own such as security

1 Table taken from Practical Law January 2016 http://uk.practicallaw.com/0-620-2129#a109644

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and capital gains tax issues if the children are not living in the property) or

lose their respective RNRB - i.e. the first to die’s RNRB will not be available

to carry forward.

Taper allowance

A taper is applied to reduce the available RNRB for estates which are valued in

excess of the taper threshold. The threshold is currently set at £2 million for the tax

years 2017/2018 to 2020/2021 and the taper threshold will increase in line with the

Consumer Prices Index unless overridden at a later date.

The provisions work by providing that when the value of an estate exceeds the taper

threshold the residential allowance is withdrawn by £1 for every £2 that the value of

the estate exceeds the threshold.

The taper rules are also applicable to the amount of the RNRB that can be

transferred from spouses who died before 6 April 2017 where the surviving spouse

dies after that date.

Tapered RNRB example

Mrs Jones dies in June 2020 with an estate worth £2,200,000. All her estate is left

to her husband, Mr Jones. Mr Jones dies in September 2020 with an estate worth

£1,500,000. Since the value of Mrs Jones’ estate was over £2m, the RNRB is

reduced to calculate the carry forward percentage. The excess value is £200,000

and applying 50% taper gives a tapered amount of £100,000. The RNRB that would

otherwise be available (£175,000) is reduced by £100,000 giving £75,000. This is

expressed as a percentage 75,000/175,000 =42.8%. Mr Jones’ executors will have

his full RNRB and an additional 42.8% of the RNRB for Mrs Jones. The total RNRB

available is £175,000 plus £74,900 (£175,000 @ 42.8%), totalling £249,900.

Practitioners should also note that the taper threshold is the value of the estate

meaning that the value is taken prior to the deduction of exemptions and reliefs.

Practitioners will need to consider with their clients whether in certain circumstances

it would be beneficial for the first spouse to use up both their NRB and their RNRB

by passing those assets directly to lineal descendants rather than to the surviving

spouse. This could avoid increasing the surviving spouse’s estate over the taper

threshold.

Practitioners should also appreciate that it is only the value of the estate which is

relevant. The cumulative total is irrelevant. In certain circumstances it may be

beneficial for an individual to consider making large lifetime gifts on their deathbed to

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reduce the estate below the level of the taper threshold. While lifetime gifts will

reduce the estate for the purposes of the RNRB exempt gifts on death will not!

Qualifying residential interest

There are further criteria which practitioners need to appreciate. To qualify for the

RNRB claim the estate must include a qualifying residential interest (QRI) which is

closely inherited. A QRI is considered to be a residential property interest that is:-

In a person’s estate immediately before death; or

Nominated by the personal representatives as the QRI in circumstances

where an estate contains more than one dwelling house.

The RNRB is limited to one property. If the deceased had two residential

properties, one worth more than the RNRB and one worth less, the PRs are

likely to choose the higher value property. Note even if both properties are

worth less than the RNRB, the claim is still limited to one so some of the

RNRB will be wasted. E.g. if RNRB is £175,000 and deceased owns two

properties each worth £87,500, only £87,500 RNRB will be available and

£87,500 will be wasted.

It would therefore appear that a buy to let property never used for residential

purposes does not qualify. However a buy to let which the deceased occupies

towards the end of their life would qualify. Watch out for clients who have taken the

decision to rent rather than own property and invest their wealth in other assets.

Practitioners should also note that whether the property is to be accepted as a

residence will in all likelihood be determined on the basis of the available CGT main

residence relief case law. In addition to the election provided above you will note:

There is no garden/grounds limitation.

No strict requirement to be occupied through the entire ownership.

Flexibility for individuals in job related accommodation who have purchased a

property they intended to occupy at some point.

Watch this space for further guidance.

Closely inherited

There is a strict requirement that one or more lineal descendants must inherit the

QRI. The technical definition used is closely inherited. In some regards the

definition is generally understood to be extremely wide including children,

grandchildren, stepchildren of the deceased, adopted children of the deceased,

foster children of the deceased and children of whom the deceased was a guardian

or special guardian. Lineal descendants of the above are also included as are the

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spouse or civil partner of a lineal descendant at the time of the deceased’s death.

The surviving spouse or civil partner of a lineal descendant who died no later than

the deceased would also be included if the survivor had not remarried or formed

another civil partnership before the deceased’s death. However collateral

descendants are not included meaning gifts between siblings or down a generation

to nieces and nephews will not attract the relief.

What does the word ‘inherited’ mean?

HMRC’s guidance makes it clear that to be eligible for the RNRB the home or a

share of it must be left to direct descendants so that it becomes part of the

beneficiaries’ estate as a result of the person’s death.

Property will be inherited as follows:-

1. Where property is owned outright by the deceased and is gifted on death via a

will, on intestacy or via the rules of survivorship.

2. Where the property is owned by the deceased and it is gifted into a qualifying

trust and :-

The lineal descendant is the immediate post death interest beneficiary

of the trust; or

The lineal descendant holds the disabled person’s interest; or

The lineal descendant is a child of the deceased and the trust falls

under the category of a bereaved minor trust or an 18-25 trust.

The property will not be treated as closely inherited if transferred on death to any

other form of trust. This would be so even if the trust was a discretionary trust with a

narrow class of beneficiaries limited to the lineal descendants. However there is

nothing in the legislation which would prevent an appointment during the relevant

two year period to a lineal descendant as indicated above.

However, gifts on death to a bare trust for a lineal descendant should benefit from

the RNRB. This is on the basis that bare trusts are not settlements for IHT purposes

(s.43 IHTA 1984) and therefore such a gift to a bare trust should be classed as a

disposition to the beneficiary.

HMRC’s guidance confirms that the home does not have to be specifically

mentioned in the deceased’s will it can be inherited as part of the residue of the

estate. If the residue passes to a number of different people, HMRC treat each as

inheriting a proportion of the home.

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If only part of the home is left to direct descendants, there are differing views as to

whether a post death appropriation would help in these circumstances. There is no

published HMRC view on this and practitioners should proceed cautiously.

What if the deceased has an interest in possession on death rather than an

outright interest?

The RNRB will be available where the deceased held a qualifying interest in

possession if on the death of the deceased either:-

An absolute interest passes to the lineal descendants; or

a successive qualifying interest in possession is created on death (in reality it

is only likely to cover a disabled person’s interest because a successive

interest cannot be an immediate post death interest).

Lifetime gift subject to reservation

It would also appear that a QRI will be treated as closely inherited if a lifetime gift is

made to lineal descendants and a reservation of benefit in favour of the deceased

over the QRI subsists. In this scenario the QRI is treated as part of the deceased’s

estate for IHT purposes.

Example

Mr and Mrs Green have three adult children. They owned a property but gifted it to

their daughter some time ago. They continue to live in the house, co-occupying with

their daughter who pays all the utility bills and keeps an eye on her parents. Mr

Green dies in May 2017 leaving his entire estate to his wife. His estate is valued at

£700,000 for IHT purposes. This includes the benefit he reserved over his half share

of the property valued at £200,000.

Mrs Green dies in June 2020 and leaves her entire estate to her three children. Mrs

Green's estate is valued at £1 million including the benefit she reserved over her half

share of the property she gifted to her daughter which is valued at £300,000. The full

value of the estate is chargeable.

Mr Green is entitled to an RNRB because his half of the house is closely inherited

because of the gift to his daughter over which he retained a benefit. The RNRB is

equal to the residential enhancement in the tax year 2017-18 (£100,000). Nothing

can be carried forward because the value of benefit that Mr Green reserved

(£200,000) exceeds the residential enhancement. The value of his chargeable estate

is, therefore, £200,000.

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Mrs Green is entitled to an RNRB because her QRI is represented by the interest in

the family home that she gave to her daughter so that it is regarded as closely

inherited. She is able to use the residential enhancement for the tax year 2020-21 of

£175,000 but cannot use a brought-forward allowance from her husband. 2

Checklist for claiming RNRB

1. Is the QRI closely inherited?

2. Establish value of QRI.

3. Establish value of deceased’s chargeable estate (watch taper provisions)

4. Check the value of the residential enhancement as at date of death.

5. Check value of any carry forward allowance from predeceased spouse.

Other practical points to watch

It is only the chargeable value of the QRI which is taken into account.

The RNRB is not set against the gift of the residential property, it reduces the

IHT on the estate as a whole.

Watch the impact of the availability of agricultural and/or business relief.

Watch the impact of lifetime gifts.

Downsizing provisions

The Finance Bill 2016 which contained the downsizing provisions received Royal

Assent and become the Finance Act 2016 on 15 September 2016.

Following concerns raised after the Finance Bill 2015, the government announced

that “where part or all of the RNRB might be lost because the deceased had

downsized to a less valuable residence or had ceased to own a residence the lost

RNRB will still be available - provided that the qualifying conditions were met. The

RNRB would apply where the residence is sold (or is no longer owned) on or after 8

July 2015. This proposal will ensure there is no disincentive to downsize or sell a

home from the date the RNRB was announced at the Summer Budget.” 3

In summary the deceased’s estate will benefit from the downsizing provisions where

the maximum RNRB cannot be claimed because either:-

A former residence was sold on or after 8 July 2015 and a less valuable

property was purchased; or

A former residence was sold on or after 8 July 2015 and no residence was

owned by the deceased at the date of death

2 Example taken from Practical Law January 2016 http://uk.practicallaw.com/3-617-8745 3 HMRC Technical Note dated 18 September 2015

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The downsizing addition can only be claimed where at least some of the remainder

of the chargeable assets (apart from any QRI) is inherited by one or more lineal

descendants.

You will note that although the RNRB applies to deaths on or after 6 April 2017 (and

the first death can occur at any time), the downsizing provisions can only apply to

proceeds of sale of properties on or after 8 July 2015.

The additional RNRB that relates to the downsizing transaction can be combined

with the main RNRB however the total value cannot exceed the RNRB that would

have been available on death if the downsizing had not occurred. This is to ensure

that those who downsize are not put in a better position than those who do not. The

intention is very much to neutralize the impact of downsizing. The additional

downsizing RNRB remains subject to the taper threshold.

Calculating the lost RNRB

There are 5 steps to work out the amount of RNRB that’s been lost as set out in

HMRC’s guidance as follows:

Step 1. Work out the RNRB that would have been available when the disposal of the

former home took place. This figure is made up of the maximum RNRB due at the

date of disposal (or £100,000 if the disposal occurred before 6 April 2017) and any

transferred RNRB which is available at the date of death.

Step 2. Divide the value of the former home at the date of disposal by the figure in

step 1 and multiply the result by 100 to get a percentage. If the value of the former

home is greater than the figure in step 1 the percentage will be limited to 100%. If the

value of the home disposed of is less than the figure in step 1, the percentage will be

between 0% and 100%.

Step 3. If there is a home in the estate on death, divide the value of the home on

death by the RNRB that would be available at the date of death (including any

transferred RNRB). Multiply the result by 100 to get a percentage (again this

percentage can’t exceed 100%). If there’s no home in the estate at death this

percentage will be 0%.

Step 4. Deduct the percentage in step 3 from the percentage in step 2.

Step 5. Multiply the RNRB that would be available at the date of death by the figure

from step 4. This gives the amount of the lost RNRB.

HMRC’s case studies contain a number of useful examples and set out below are a

few of the case studies relating to downsizing.

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No residential interest at death

Case study 11 shows how the lost RNRB is calculated where the deceased’s has

no home in her estate at death.

Mrs K, a widow, sold a home worth £195,000 in June 2018. The maximum RNRB

when the home was sold in the tax year 2018 to 2019 is £125,000.

She dies in August 2020 with no home in her estate.

The maximum RNRB when Mrs K dies in tax year 2020 to 2021 is £175,000.

Mrs K’s estate is also entitled to transferred RNRB of £175,000.

To calculate the lost RNRB:

Step 1. The maximum RNRB when the home was sold was £125,000. Mrs K’s estate

is also entitled to transferred RNRB of £175,000 when she dies. So the total RNRB

that could have been available when the home was sold is £300,000 (£125,000 +

£175,000).

Step 2. The home was worth £195,000 when it was sold. You divide this by the value

at step 1 (£300,000) to give a percentage of 65%.

Step 3. There’s no home in the estate at the date of death, so the percentage is 0%.

Step 4. Taking 0% from 65% gives a percentage of 65%.

Step 5. When Mrs K dies, the maximum RNRB is £175,000. Her estate is also

entitled to transferred RNRB of £175,000, so the maximum RNRB for Mrs K’s estate

is £350,000. The ‘lost’ RNRB is £227,500 (65% of £350,000).

Although the lost RNRB is £227,500, the amount of the downsizing addition actually

available to Mrs K’s estate depends on the value of any other assets that are left to

Mrs K’s direct descendants.

The effect of step 3 is that there will be a different amount of lost RNRB depending

on whether the deceased has either:

downsized to a less valuable home

disposed of a home. If the percentage in step 3 is the same as, or greater

than, the percentage in step 2 there’s no loss of RNRB and there’ll be no

downsizing addition.

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Downsizing to a less valuable home

Case study 13: how to work out the downsizing addition and RNRB

In May 2018 Mr M downsized from a large house worth £500,000 to a small flat. The maximum RNRB in the tax year 2018 to 2019 is £125,000.

Mr M dies in September 2020. He leaves the flat worth £105,000 to his son, and the rest of his estate worth £200,000 to his 2 daughters.

The maximum RNRB due in tax year 2020 to 2021 is £175,000.

There’s no entitlement to transferred RNRB on Mr M’s death.

Step 1. The maximum RNRB at the date of downsizing was £125,000.

Step 2. The house was worth £500,000 when it was sold. Divide this by the figure at step 1, but limit the percentage to 100%.

Step 3. The flat is worth £105,000 when Mr M dies. Divide this by the maximum RNRB available at death (£175,000). This gives a percentage of 60%.

Step 4. Take away the percentage at step 3 (60%) from the percentage at step 2 (100%) to give a percentage of 40%.

Step 5. Multiply the maximum RNRB at death (£175,000) by the percentage at step 4 (40%) to give a total of lost RNRB of £70,000.

The actual amount of the downsizing addition depends on the value of other assets that are left to Mr M’s children.

As Mr M leaves more than £70,000 of other assets to his daughters, the downsizing addition of £70,000 is added to the RNRB due for the flat of £105,000 left to his son. This gives a total RNRB for the estate of £175,000.

If instead Mr M had left the flat to his son, some assets worth £50,000 to his daughters, and the rest of his estate to his wife, the downsizing addition would be restricted to £50,000. This is because that’s the value of other assets he left to his daughters.

The total RNRB in that case would be £155,000 (£105,000 + £50,000).

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Case study 14: how to work out the downsizing addition and RNRB where only a part of the home is left to direct descendants

Mr N downsized in February 2019 from a house worth £400,000 to a bungalow. The

maximum RNRB in the tax year 2018 to 2019 is £125,000.

When Mr N’s dies in September 2020, he leaves the bungalow, worth £105,000, in

equal shares to his wife and son.

He leaves the other assets in his estate worth £150,000 to his daughter.

The maximum RNRB due in tax year 2020 to 2021 is £175,000.

There’s no entitlement to transferred RNRB on Mr N’s death.

Step 1. The maximum RNRB at the date of downsizing was £125,000.

Step 2. The house was worth £400,000 when it was sold. Divide this by the figure at

step 1, but limit the percentage to 100%.

Step 3. When Mr N dies, the bungalow is worth £105,000. Divide this by the

maximum RNRB available at death (£175,000). This gives a percentage of 60%.

Step 4. Take away the percentage at step 3 (60%) from the percentage at step 2

(100%). This gives a percentage of 40%.

Step 5. Multiply the maximum RNRB at death (£175,00) by the percentage at step 4

(40%), to give a total of lost RNRB of £70,000.

Mr N only leaves half of the bungalow to his son. So you reduce the RNRB due for

that home £52,500 (50% of £105,000).

As Mr N leaves other assets of £150,000 to his daughter, the downsizing addition is

£70,000 (the lower of the lost RNRB of £70,000 and £150,000).

You add this to the RNRB due for the bungalow of £52,500, to give a total RNRB of

£122,500 (£52,500 + £70,000).

The maximum available RNRB is £175,000, but Mr N’s estate can only use

£122,500. So there’s unused RNRB of £52,500 available to be transferred to Mrs N’s

estate.

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If the assets left to the daughter were worth only £20,000, the downsizing addition

would be restricted to £20,000. So the total RNRB for the estate would be £72,500

(£52,500 + £20,000).

There’d be unused RNRB of £102,500 available for transfer.

General implications of downsizing

You will need to impress upon your residential conveyancers the importance of

keeping proper records so that the downsizing provisions can be properly applied.

You should keep full details of properties owned in July 2015 subsequently sold or

transferred by gift, completion statements, evidence of ownership (eg office copy

entries or conveyances) and details of use as a residence.

It would appear that there are no time limits in relation to the period post the event of

the downsizing. For example it would appear that a residential property could be

sold and the deceased not pass away for some 15 years. Notwithstanding the

significant gap between the sale and death it would appear that the downsizing

provisions would be available.

Downsizing amendments

Practitioners may have been aware of two quirks in the Finance Bill 2016 as

originally published. The first was that the provisions apply only where a “person”

disposes of a residential property interest. On a strict interpretation this would not

include trustees. For example if a husband leaves a house (solely owned by him) to

his wife for life with the remainder to the children absolutely and the trustees sell it let

us say because the wife needs permanent residential care then it appeared that the

downsizing provisions were of no help and in addition the widow’s estate would have

no RNRB.

The draft clauses also provided that if “a person” disposes of two interests in a

residence the personal representatives must nominate one interest. In many cases,

the survivor may have an IPDI in a half share and own the other share outright.

Therefore only 50% of the value would be eligible for relief.

Amendments proposed on 28 June 2016 to clause 82 and schedule 15 of the

Finance Bill 2016, and subsequently enacted were as follows :

Where the deceased had more than one interest in a former residence (eg an

outright interest in half the property and a qualifying IIP over the other half), if

the two interests are disposed of on the same day, they will both be counted

as a qualifying former residence. Where a person disposes of interests in a

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former nominated residence on different days, the PRs can only nominate one

of those days and the interests disposed of on that day will be the qualifying

ones for the purposes of any downsizing addition).

Where a former residence was given away but the deceased reserved a

benefit over it, the amendments provide that the gift will not qualify for the

purpose of the downsizing addition until the reservation of benefit ceases.

A new section 8HA will determine if a former residence in which the deceased

had a qualifying IIP is considered as a qualifying former residential interest for

the purposes of the downsizing addition.

The purpose of the amendments are to ensure that the provisions work as

intended in situations where an individual had more than one interest in a

former residence, or the former residence was held in trust. They also clarify

how the provisions apply to certain disposals.

These are welcome amendments in respect of trust interests.

Final points to watch

This is an extremely complicated piece of legislation and the downsizing provisions

add a further layer of complexity!

Will drafting and planning points

Let’s take a look at some of the typical will structures that we might draft on behalf of

our clients and the implications in respect of the RNRB.

Qualifying gifts

A common will structure is for a married couple to leave their estates to each other

outright and then onto children equally on the death of the survivor of them.

The first to die’s nil rate band will not be used and will be available for transfer to the

survivor. On the second death, the property will pass as residue. Provided one of

the following structures is used, the RNRB can be claimed:

Absolute gift

Bereaved minor’s trust

18 – 25 trust (note: age contingencies over 25 will not qualify)

IPDI trust

Disabled person’s trust

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It is common to include a substitutional gift in favour of grandchildren at a specified

age. The substitutional gift for the grandchildren will not qualify for the RNRB as it is

not within the class of permitted trust arrangements.

The drafting solution is to remove the age contingency for the grandchildren.

Alternatively, the grandchildren’s share could be left on flexible life interest trusts with

the necessary amendments to s.31 Trustee Act 1925.

Discretionary trusts

For asset protection and succession planning purposes, it is becoming more

common for residue to pass onto a discretionary trust on the death of the surviving

spouse.

On the second death, the estate will not qualify for the RNRB at the outset, even

though the class of beneficiaries who can benefit from the discretionary trust is

limited to lineal descendants only.

This will does have the advantage of flexibility and s.144 IHTA 1984 comes to the

rescue! (see below).

For existing wills with this structure, no action is needed now. Despite the changes,

clients may often still wish to put this will structure in place given the flexibility it

offers and depending upon their family situation. You will need to review existing

letters of wishes for such wills and when drafting new letters of wishes you will need

to take into account the RNRB provisions and to set out any relevant guidance.

IPDI for spouse

Again, for asset protection and succession planning purposes, the use of an IPDI

trust on the first death for the survivor’s benefits is fairly common will structure. The

property is likely to be owned as tenants in common so that the first to die’s share

can pass into the IPDI trust.

On the first death, the RNRB will not be used due to the spouse exemption. The

survivor will have an IPDI in a share of the property and own a share absolutely.

Where a deceased dies with an IPDI in a residence, the RNRB will be available if

lineal descendants inherit immediately following the life tenant’s death. The

availability of the relief depends upon the terms of the trusts following the life tenant’s

death. The RNRB will be available only if the lineal descendants take absolutely.

You should note that the RNRB will not be available if the lineal descendants are

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given successive life interests (these would not be qualifying IPDIs) or if a

discretionary trust arises (even if the class of beneficiaries is limited to lineal

descendants). Appropriate care will also be needed in respect of any age

contingences.

Alternatively, a slightly modified will structure could be utilised to ensure the

availability of the RNRB. This could provide for an IPDI to surviving spouse subject

to a limited power of appointment that it is only exercisable over property with a

subsisting IPDI (i.e. only exercisable during the life tenant’s lifetime). The

reversionary interest would be in favour of the children outright. This retains some

flexibility during the life tenant’s life time to revoke the outright gifts before they vest

if, for example, family circumstances change but if no such appointment is made it

ensures that the RNRB will apply on the life tenant’s death without any further action

being needed.

Drafting to bank the RNRB

There may be some circumstances in which it is appropriate to expressly bank the

RNRB. One way to do this is to simply leave a specific gift of a residence to lineal

descendants. The legacy could be an absolute gift to children equally. Alternatively,

the legacy could qualify as a bereaved minor’s trust, an 18 to 25 trust or an IPDI. A

gift to grandchildren would either need to be an absolute gift or qualify as an IPDI.

There are now available various precedents which bank the RNRB by use of a

formula. Essentially, these precedents intend to gift a share in a residence sufficient

in size to use the available residence nil rate band. They also pick up cash if the

downsizing addition can be claimed. The gift is either an outright gift or a gift onto a

qualifying trust. Some precedent works also suggest leaving a residence nil rate

band legacy onto a discretionary trust. The legacy would not initially qualify for the

residence nil rate band and it would be necessary to make an appropriate

appointment within the two year read back period in order to claim the relief.

When would it be appropriate to bank the residence nil rate band in this way? The

most obvious answer is the second marriage situation where one or both parties

have previously been widowed. In these circumstances, there may be three or four

RNRBs available and it may be necessary to bank one or two residence nil rate

bands on the first death to ensure all reliefs available are fully utilised.

Example

Harry and Henrietta were married. Henrietta died in 2015, leaving her entire estate

to Harry absolutely. Henrietta’s unused RNRB is available for transfer to Harry.

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Harry subsequently marries Margaret in 2019. If Harry leaves his entire estate to

Margaret absolutely, on Margaret’s subsequent death, her estate will make use of

her RNRB and Harry’s unused RNRB. Henrietta’s unused RNRB will be wasted.

Alternatively, if Margaret were to die, leaving her entire estate to Harry absolutely, on

Harry’s subsequent death, his estate would be able to use his own RNRB and

Margaret’s unused RNRB. Again, Henrietta’s unused RNRB would be wasted.

It is sensible for Harry to put in place a will which banks at least one of the RNRBs

available to him, should he die before Margaret. This would ensure that Henrietta’s

RNRB is used on Harry’s death. On Margaret’s subsequent death, her estate would

use her own and Harry’s RNRB.

It would also be sensible for Margaret’s will to bank her RNRB, should she die before

Harry. On Harry’s subsequent death, he would then take advantage of his own

RNRB and Henrietta’s unused RNRB.

It may also be appropriate to bank the RNRB on the first death of unmarried

partners.

Bunching

In light of the taper threshold, it may be necessary for married couples to consider

using a traditional nil rate band discretionary trust on the first death, in order to keep

the value of the survivor’s estate down on the second death.

Example

Mr and Mrs Morgan have four daughters. Their home is worth £900,000. Their

combined estates are worth £2.3m. If Mr Morgan leaves everything to Mrs Morgan

on the first death, then clearly no IHT will be payable on the first death as the spouse

exemption for IHT will apply. On Mrs Morgan’s death in 2020/21, her estate is worth

£2.3m. Mrs Morgan has her ordinary nil rate band available plus a transferable nil

rate band. In addition she has two RNRBs of £175,000. However, her estate

exceeds the taper threshold by £300,000 so the RNRB available to her estate is

reduced to £150,000.

If Mr Morgan had included a NRB discretionary trust in his will which received

£325,000, Mrs Morgan’s estate would then have been worth £1,975,000 and her

estate would not exceed the taper threshold.

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Consider going back to the good old days whereby an equal distribution of assets

between spouses was important for the purposes of nil rate band planning (This

would have helped in the above example).

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Using the RNRB

In some circumstances, it is appropriate to make good use of the spouse exemption

but with a view to passing assets on to the next generation as soon as possible. In

these circumstances, it is common for a spouse to be given an IPDI in residue and

for the trustees to be given overriding powers of appointment. Assets can be

channelled through the spouse exempt IPDI onto other beneficiaries. Provided the

spouse outlives the transfer by seven years, the funds will pass on to the next

generation free of inheritance tax.

The same principles can apply to the use of the RNRB. A qualifying beneficiary

could be given a IPDI in a property or a share of property using the RNRB formula,

subject to overriding powers of appointment. A property or share of a property could

be channelled through the exempt trust and onto other beneficiaries. This may be of

particular use for unmarried couples where the spouse exemption is not available on

the first death.

General points

Things begin to become more complicated where non-lineal descendants are also

beneficiaries of the will. For example, the testator leaves a substantial pecuniary

legacy to his sister and residue to his children. Presumably, the residuary gift will

satisfy the requirement for the RNRB even though the children have not been left the

house specifically. But what if, the executors appropriate the house in satisfaction of

the legacy or sell it and use the proceeds to pay the pecuniary legacy? There does

seem to be differing views as to whether or not such actions would result in the loss

of the RNRB.

What if an estate is left 50% to the testator’s sister and 50% to the testator’s

daughter? HMRC’s guidance clearly indicates that, in these circumstances, the

sister and daughter are to be treated as inheriting a 50% share of each individual

asset in the estate. The daughter will therefore be treated as inheriting a 50% share

of the testator’s property. The value of the half share will determine whether or not

the RNRB is fully used or partially wasted.

Variations

If the will does not automatically make use of the RNRB, it may be possible for the

beneficiaries to put in place a deed of variation under s.142 IHTA 1984 which

redistributes the estate in such a way as to bank the RNRB. Often the easiest route

would be to incorporate a substituted will which is based on the planning set out

above.

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Only beneficiaries of full age and capacity can vary their entitlements.

Appointments

A variation may not be possible if there are minor beneficiaries or the estate passes

onto discretionary trusts. The trustees in these circumstances need to consider

using other powers.

If the property (either as a specific gift or as part of residue) passes to children at an

age over 25 or grandchildren at a specified age, the trustees could consider using

their power of advancement under s.32 Trustee Act 1925. Provided this is exercised

within 2 years of the date of death, it will be read back under s.144 IHTA 1984 and

the gift will then qualify for the RNRB.

If the estate passes onto a discretionary trust, the trustees should consider making

an appropriate appointment within 2 years of the date of death. This will be read

back for inheritance tax purposes under s.144 IHTA 1984 so that the gift is treated

as a qualifying gift. The appointment could be an absolute appointment of the

property to a qualifying beneficiary or an appointment of the property onto a

qualifying trust. For example, the children could be given a revocable IPDI in the

property. If the property has been sold during the deceased’s lifetime and the

downsizing addition is being claimed, the appointment can be of cash or a sufficient

share of residue.

There may be good reasons for not making an appointment of the entire property to

children or other qualifying beneficiaries. It may also be appropriate in some

circumstances for the appointment to simply bank the RNRB, leaving other assets in

the estate unaffected. The trustees could consider appointing a RNRB legacy using

a formula as discussed above.

If the appointment is made before the inheritance tax account has been completed,

the inheritance tax account can be completed on the basis of the appointment which

may prevent the need to pay inheritance tax and make a subsequent claim for the

overpaid tax. If an appointment has to be made quickly, the use of the RNRB

formula may provide a solution.

When dealing with an estate which provides for a life interest for a spouse followed

by a discretionary trust, the trustees will need to consider the position during the life

tenant’s lifetime and where appropriate exercise their power of appointment to

ensure that a sufficient interest in the property passes outright to lineal decedents on

the life tenant’s death. You will need to be careful in drafting the appointment to

ensure that you do not disturb the existing life tenant’s IPDI. The risk that both

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spouses could die in quick succession before the appointment has been exercised

will also need to be taken into account.

Finally practitioners will need to appreciate that:-

The ordinary NRB can be allocated during lifetime and on death.

The TNRB can in effect be claimed on the death of the second spouse and

against any failed gifts which come into play on second death.

The RNRB can only be allocated against tax on death.

Lucy Obrey – March 2017